Why Protocol-Owned Liquidity Should Fund Public Goods

Foundation grants like Ethereum Foundation or Optimism's RetroPGF rely on small, centralized committees. This creates high overhead, political gatekeeping, and chronic underfunding for critical infrastructure.

• Inefficient Allocation: Committees are slow and can't scale with ecosystem needs.
• Misaligned Incentives: Grantors have no direct skin in the game, leading to poor capital efficiency.
• Example: Optimism RetroPGF Round 3 distributed $41M to 501 projects, a fraction of the ecosystem's generated value.

Protocols rely on liquidity mining and incentive programs to bootstrap usage. This attracts short-term, yield-farming capital that abandons the protocol once subsidies dry up.

• Value Leakage: Billions in token emissions flow to mercenary LPs with no long-term loyalty.
• No Public Good ROI: This capital provides temporary liquidity but funds zero R&D, security audits, or core tooling.
• Case Study: SushiSwap vs. Uniswap demonstrated how vampire attacks drain value without building durable infrastructure.

Public goods like EIP development, client diversity, and protocol security are non-excludable. Every protocol benefits, but no single entity is incentivized to fund them sufficiently, leading to systemic risk.

• Tragedy of the Commons: Protocols optimize for private profit while under-investing in shared infrastructure.
• Concentrated Risk: Reliance on a few underfunded teams (e.g., Geth, Prysm) creates single points of failure.
• Result: The ecosystem's foundation is built on volunteer labor and goodwill, which is not scalable or secure.

Protocol-Owned Liquidity (POL)—treasury assets deployed in its own AMM pools—generates sustainable, permissionless yield. This is a superior capital asset versus idle treasury tokens or volatile emissions.

• Sustainable Yield: POL generates real revenue from swap fees, not inflationary printing.
• Aligned Capital: The protocol's success directly boosts its treasury, creating a permanent funding flywheel.
• Precedent: OlympusDAO's (OHM) POL model, though flawed in execution, proved the raw economic power of self-owned liquidity.

Billions in protocol-owned liquidity sit idle or are farmed by mercenary capital, creating zero-sum games. This capital could be a perpetual, low-risk funding source for the public goods that sustain the ecosystem.

• Opportunity Cost: $10B+ in idle treasury assets across DeFi.
• Misaligned Incentives: Yield farming rewards exit with the liquidity, providing no lasting network benefit.

The Optimism Collective directly funds its public goods ecosystem via revenue from its Sequencer, which is backed by protocol-owned liquidity. This creates a sustainable flywheel.

• Funding Source: Sequencer profits, derived from ~$600M+ in OP Stack TVL, are allocated via Retroactive Public Goods Funding (RetroPGF).
• Proven Scale: Over $100M has been distributed to developers, educators, and tooling providers across multiple rounds.

Uniswap Governance, empowered by its ~$4B treasury, uses fee switch proposals to create a direct, on-chain revenue stream. This model sets a precedent for funding ecosystem development through protocol-controlled value.

• Mechanism: A portion of swap fees is diverted to a grants program or designated fund, decided by UNI token holders.
• Precedent: Establishes a clear path for DeFi blue-chips to transition from value capture to value recirculation.

The endgame is autonomous, yield-generating vaults that fund public goods without continuous governance overhead. Think Ethereum's PBS or Cosmos' Allocator DAOs as models.

• Automation: Treasury assets are deployed into low-risk, yield-bearing strategies (e.g., ETH staking, DeFi lending).
• Continuous Funding: The generated yield is autonomously streamed to verified contributors via smart contract-based milestones.

Protocols relying solely on transaction fees face a death spiral during bear markets. This creates a boom-bust cycle for public goods funding, making long-term R&D impossible.

• Volatile Revenue: Fee income can drop >90% in a downturn.
• Misaligned Incentives: Voters favor short-term rewards over long-term security.
• Example: Many DAOs saw treasury runway shrink from decades to months post-2022.

Deploy treasury assets (e.g., native tokens, stablecoins) into the protocol's own liquidity pools. The generated yield becomes a predictable, counter-cyclical revenue stream for grants and security.

• Sustainable Yield: Earn 5-20% APY from swap fees and incentives.
• Protocol Capture: Retains value and liquidity within the ecosystem, unlike mercenary LP capital.
• Precedent: Olympus DAO pioneered this with its treasury-owned OHM-DAI pools.

Using POL yield to fund protocol R&D, audits, and client diversity creates a virtuous cycle. A more secure and innovative protocol increases token value, which grows the treasury and its yield capacity.

• Direct Alignment: Public goods funding is tied to the asset's success.
• Long-Term Horizon: Enables multi-year grants for critical work (e.g., Lido's Simple DVT Module, Uniswap's v4 development).
• Investor Signal: Demonstrates a capital-efficient treasury strategy beyond token speculation.

POL is not a free lunch. Managing liquidity pools exposes the treasury to impermanent loss (IL) and can lead to excessive centralization of pool ownership.

• IL Management: Requires active strategy (e.g., Gamma, Charm) or stablecoin-only pairs.
• Governance Attack Surface: Concentrated LP position could be a voting power target.
• Mitigation: Use diversified LP strategies and cap POL as a percentage of total TVL.